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19 Sept 2017

The Chinese manufacturing exodus

By Professor Frank Chen, City University of Hong Kong

Against a background of rising costs, Chinese manufacturing is on the move —— to the US and Southeast Asia. Professor Frank Chen, Head and Chair Professor of Management Sciences, investigates latest trends and how a record inflow of Chinese investment is helping revitalize the American economy.

When the then President-elect Donald Trump met Alibaba executive chairman Jack Ma in January 2017, he characteristically said he had a “great meeting”. They discussed one of the incoming President’s favourite topics, American jobs. The headline news? One million new US jobs to be created.

“We’re focused on small business,” Ma told reporters after the meeting. “We specifically talked about ... supporting one million small businesses, especially in the Midwest of America.”

Ma said that Alibaba’s expansion would focus on products like garments, wine and fruits, with a special focus on trade between the American Midwest and Southeast Asia.

Of course, Alibaba has clout. With more than 10 million active sellers as of 2015, the company estimates its China retail marketplaces has contributed to the creation of over 15 million job opportunities.

The meeting came against a background of stalled US reshoring (US companies returning to their homeland) whilst Chinese investment remains buoyant. Every year since 2012, Chinese investment in America has exceeded investment flows in the other direction. And in 2016 Chinese companies’ investment in the US economy was at a record US$18 billion. This embraced sectors from entertainment to micro-electronics, information technology, household appliances, and hotels. The investment went beyond financial sector mergers and acquisitions to include the building of new manufacturing plant on green or brown field sites.

The world’s workshop?

As early as 2010, Bloomberg Business Week ran the title “Why Factories Are Leaving China”. Chief Economist at the Industrial Bank, Lu Zhengwei, dates the shift to 2012, when China’s services sector overtook manufacturing for the first time as the biggest contributor to nominal gross domestic product. At the time this was heralded as a milestone towards industrial restructuring.

“The process began to get serious a long time ago… When we spoke highly of the increasing role of the service industry in our economic structure, it had already kicked in. That was 2012,” Lu said, adding that China’s high taxes and high land costs are now turning business away.

China’s manufacturing base is indeed transforming. Lower end manufacturing is moving offshore to Southeast Asia countries such as Vietnam, Indonesia and African countries such as Ethiopia, whilst higher value added manufacturing is encouraged against a background of increasing automation. The heyday of China’s manufacturing boom is long gone. These were the 1980s and ’90s, and especially the years after China joined the World Trade Organisation in 2001. In these years, the gains to China’s manufacturing base can often be directly correlated to losses in the US. Some sources state that the US trade deficit with China cost 3.2 million jobs between 2001 and 2013.Manufacturing was eager to relocate from the advanced economies, and within a decade China was the world’s second-largest economy.

Southeast Asia boom

A confluence of political and economic factors is now producing another decisive shift — away from China. On both sides of the Pacific, government policy is playing a role. In China, Beijing has encouraged labour-intensive businesses to move elsewhere as it tries to steer the economy towards higher value-added services and automation. In the US, President Trump has suggested that a tariff barrier may be placed between the two countries, and encourages “Made in America”. The question remains, who by?

For China, the new policy means less emphasis on shoes and apparel. Vietnam has overtaken China to become the largest producer for Nike shoes. Garment exports from Southeast Asian nations to the EU, US, and Japan have been very strong in recent years, sharply contrasting with the performance from China. Companies such as Eclat Textile, Taiwan’s largest apparel company, are pulling out of China completely due to deteriorating business conditions and surging wage costs.

Even the high-tech sector is affected. More than 50% of Samsung smartphones are now assembled in Vietnam, and one more Samsung factory is currently under construction. It is reported that 80% of Samsung’s China capacity will be moved to Vietnam. When such giants move, so do their immediate supply chain partners, sooner or later, followed by secondtier and accessory suppliers. The result — many Vietnamese companies are also intensifying investment in the electronics supporting industry.

Exodus

The exodus of Chinese manufacturing goes hand-in-hand with a surge of outbound investment. This is up more than 50% in the first 11 months of 2016 from a year earlier, with manufacturers involved in more than a third of China’s overseas mergers during that period. At the same time, China’s private sector investment at home rose just 3.1%.

The prospect of reaching a Trans-Pacific Partnership (TPP) agreement accelerated such supply chain shifts. TPP would make Vietnam an open economy and a favourable destination for FDI. With other ASEAN countries intent on joining too, a pattern similar to 1990s’ Pearl River Delta was emerging with countries such as Indonesia introducing economic stimulus packages to encourage foreign investment, and keeping currency at low levels. The whole regional block was poised to replace the Pearl River Delta region, benefit from lower labour costs, and emerge as the world’s low cost manufacturing centre.

President Trump’s abrupt cancellation of TPP has now thrown doubt on the viability of importing to the US. In the short-term, reshoring and FDI in the US should gain renewed impetus. But one thing is for sure, these manufacturers will not be returning to China.

FDI trumps reshoring

Ironically, Foreign Direct Investment seems to be playing a much greater role in the American manufacturing revival than the much-vaunted US reshoring phenomenon.

“The US Reshoring phenomenon, once viewed by many as the leading edge of a decisive shift in global manufacturing, may actually have been just a one-off aberration,” says Patrick Van den Bossche, A.T. Kearney partner and co-author of an April 2016 Reshoring Index study. Industries vulnerable to rising labour costs in China have been successfully relocating to other Asian countries, rather than returning to the US, the report confirms. Vietnam has absorbed the lion’s share of China’s manufacturing outflow, especially in apparel. US imports of manufactured goods from Vietnam in 2015 were nearly triple the level of imports in 2010.

2016 Record - breaking Chinese investment in the US

January In the largest China-Hollywood deal to date, conglomerate Dalian Wanda Group Co. acquires production and finance company Legendary Entertainment for US$3.5 billion.

April Omnivision Technologies, whose camera sensors have been used in Apple Inc.’s iPhone, is acquired by a consortium of Chinese private equity firms including CITIC Capital Holdings, Hua Capital Management and Goldstone Investment Co. for US$1.9 billion.

April Tianjin Tianhai buys Ingram Micro for US$6.07 billion. The deal marks the largest Chinese takeover of a US information technology company to date.

June Qingdao Haier Co. spends US$5.6 billion to buy the appliance division of General Electric, giving the Chinese appliance manufacturer an opportunity to boost its presence in the US market.

September Anbang Insurance's, one of China's largest insurance companies, completes a US$6.5 billion deal for Strategic Hotels and Resorts.

October Chinese conglomerate HNA agrees to pay private equity firm Blackstone Group US$6.49 billion for a 25% stake in Hilton. The move is part of HNA's efforts to enhance its global tourism business.

'Made by China' in America

China companies are entering manufacturing in the US in a variety of industries.

Paper In June 2014 Shandong Tranlin announced it would invest about US$2 billion to build a pulp and paper factory outside Richmond, Virginia.

Textiles The Keer Group has built a US$218 million cotton yarn factory in South Carolina, and “are now hiring in places where cotton was king”.

Construction Machinery SANY has made a US$60 million investment in office and manufacturing space for construction machinery in Georgia.

Computers Lenovo opened a computer production plant in North Carolina in June 2013.

Auto Parts China's largest auto parts maker, Wanxiang Group, has 28 factories in 14 US states with 6,500 employees.

Garments In October 2016, Chinese garment manufacturer Tianyuan Garments Co. made a US$20 million investment to produce clothes for brands like Adidas, Reebok and Armani — the first Chinese manufacturer to make clothing in the US.

Paper In April 2016, Chinese paper products maker Sun Paper Industry said it was opening its first North America factory in South Arkansas, investing more than US$1 billion to construct a new bio-products mill that would create 250 local jobs.

Steel Pipe Tianjin Pipe has invested more than US$1 billion in a steel pipe plant in Texas, designed to produce 500,000 metric tons per year of steel pipe that is used in the oil and gas industry.

This article was firstly published in “CITY BUSINESS Magazine (Spring 2017)” by College of Business, City University of Hong Kong magazine. Please click to read the full article.

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